Can Chesapeake Energy Fuel Profits

When oil was trading at $150 per barrel owning anything associated with crude was a no-brainer. Now with oil and other commodities in a free-fall does the same trade make sense?

I posed that question to our InvestorPlace Blogs community specifically with respect to Chesapeake Energy Corp. (CHK). Given the drop in oil and the subsequent selling of oil stocks, does it make sense to own CHK?

Since early July CHK has fallen off the cliff dropping from $70 per share to $30 per share today. That move essentially erased previous gains made in early 2008 as oil prices were going up.

So what gives? Interestingly CHK is in a unique position. Yes, they are in the middle of the oil patch, but they may also be beneficiaries of the move to alternative energy. It turns out natural gas is a central part of the Pickens Plan advocated by oil tycoon T. Boone Pickens.

Natural gas is in huge supply in the United States. It is also cleaner burning and auto makers have the technology to build natural gas burning engines that are high performing. CHK stands to benefit greatly should that be the direction the country moves with respect to alternative energy.

In mid-July I suggested that it would be time to buy oil stocks when prices fall well below $100. We are at that critical $100 point today. The question now is will OPEC defend that level with cuts in supply?

On the flip side we are in an economic slowdown that some, including me, say will be rather protracted. That may trump any attempts to keep prices artificially high. If so, oil price drops may push CHK even lower.

At the end of the day I think CHK is a stock to own. The question is when? For me, I want to see oil prices drop a bit further. In addition clarity on the economy is needed before diving in.

Here are two good comments on CHK:

Don Moncrief

I like the prospects for this stock, but I say with reservations. I am learning about it, and somewhat the hard way. Yes, full disclosure is I own CHK, in both the lab, and real life.
Twice I have made the same mistake with it. In each case, it made nice gains, which I allowed to dwindle away to a negative number. The first time, I made a mistake (?) and sold it, for a small loss, as I did not really follow the stock that much at the time. I have since been watching it, and it has some very impressive things going on. But, before I get into that, briefly let me relate what I learned most from owning it. It has been HIGHLY cyclical. I have learned some lessons here, and this would seem to be one stock that the adage "go away in May, and stay away until October" would seem to fit to a tee. Oil in particular, except for this year of course, typically drops during summer months. The same is true of natural gas, which is the mainstay of CHK's business. This is because the most usage of natural gas is in the winter to heat homes.

Now, that is what has been happening in the past, and to ignore the past in picking a stock is just foolish.

Then the question comes as to what is on the future horizon? Well, the fact that the CEO is buying huge volumes of shares tells me he has faith in the company's prospects for the future.

That is one very big positive and could be a reason to buy, if no other reason could be found.

But, that is not all I see for CHK. They have found HUGE reserves of natural gas in Louisiana, which is quite possibly the largest in the world. Since until recently, the bulk of their natural gas came from Oklahoma, it is not like they will be traversing the globe to get there, ie, it is local to them (a mere few hundred miles). That alone, should help keep costs down.

Then I look to what I see from global demand. At the very least, I expect more cars to be powered by natural gas. This is already happening in some states, and I believe Nevada is a leader in this effort. The trend should gain support to, as it is cheaper to fill tanks with than gas is (but the conversion to use natural gas, as opposed to regular gas is not cheap). Still, I do expect conversions to take place, and for GM, Ford, and other manufacturers to start making these cars using natural gas fairly routinely. And, I don't think we are quite there yet, but I expect natural gas to replace some coal usage at electrical power plants, just because it is a cleaner fuel than coal is. We do still have escalating concerns with global warming, and coal may be one of the worst offenders.

What could be the down sides? I certainly do see competition for CHK in some arenas. Both wind and solar are rising to the occasion. Yet neither is very efficient in energy storage or transfer, at least today Wind will increasingly be used as a source of electrical generation, as will solar. I have seen prototypes of both used as sources of power for automobiles. But, there is yet to be a clear winner between wind, solar, and natural gas,, but the loser would seem to be gas, over time.

Buy, sell, or hold? The stock has been visiting the cellar in a big way lately, and it has yet to start any rebound. Ok, the economy, and depressed oil prices are hurting it badly (possibly not to mention some short sellers?). But, if you already own it, I sure would not be selling it. If you are looking to buy it, I would wait another month maybe, or until I see some signs of rebound.

Rebound it will though, and I expect, fairly nicely.

CHK has a sound balance sheet, and it is one of a few companies that drills and has it own rigs for it. So, I guess I should mention two of it's competitors that I also like. Devon Energy (DVN) is going to be a force to deal with in the Rocky mountain area, and has a substantial company size. A smaller company I see good things for in the future is Abraxas Petroleum (AXAS). Abraxas is Texas based primarily, but not exclusively. Several things I like about Abraxas very much. It too has a pristine balance sheet, and virtually no debt. It also has it own rigs, and does its own drilling. And, it is a size that makes it a target for acquisition. The low stock price on it right now merely reconfirms my conviction in good things for this stock in the future. Then again, the small size of Abraxas will be little threat to Chesapeake, as a company the size of Devon Energy might be.

Today, if you have it, hold it. If you have a mountain of cash on the sidelines, wait until it starts some rebound before you buy, but that should be happening in a matter of days, not months. And, if you are thinking about selling it now, well, I would not. It is your money, This is a tough stock to bet against, especially if you are a long term investor. Then again, even a long term investor needs to use some sense. It is CYCLICAL, in a big way, and I found that out the hard way. Time your buy and sell points, rather than wait for specific targets. If you have not made your target price by May, sell half anyway. There is a good chance you can buy back in close to or lower in early October, if history is any guide (and some times it is not, but it is an indicator not to be ignored either).

I consider myself a long term investor, and this is one stock I do like for the long term. Still, I think long term for this stock has many, many buys and sells you have to do, to make the most of what this stock has to offer over the long term. The cyclical nature of this stock has bitten me twice, and the economic downturn has only exaggerated it further the second time.

Have I lost faith in CHK? Not even a little bit. I just trade it smarter now, or will in the future.

Anonymous - This opinion was submitted via e-mail in response to the Question of the Week
I owned Chesapeake Energy (CHK) for a while. I sold if half way into its recent run-up. To me, it seems a great company, but I don't read company reports much. I don't believe they are accurate. The issues I have in all companies, especially oil exploration, is credit availability. CHK is not so much an exploration company, but I feel their dividend should be more substantial considering their position in pipes and the stuff in production. They recently sold some attractive assets and I worried if it was selling at a good price, collecting capital for a different venture, or an intrinsic issue that needed to be solved. I don't know CHKs' game plan; I don't know the condition of there bonds, I don't know anything about any company. CHK is a blue chip company in a cyclical market, I think the question should be, do you see gas stocks in general heading up? I bought this stock a little lower than where it is now, and held it for over a year. I think it is over sold based on nav, but you really gotta pick the bottom on these guys, or you'll get shaken out in the waiting.

If CHK is not needing to borrow money, which they shouldn't, and they are going to keep their eastern corridor, and if they are going to stay out of wind and solar, then I think it is a company that could double in short haste.

If oil continues its descent and stocks like CHK follow, we will see one of the better buying opportunities in some time. I just prefer to wait a bit before doing so.

Jamie Dlugosch
Executive Editor, InvestorPlaceBlogs

by The Freshman |  10/03/08  |  Stocks: CHK,